Integrity? What does it have to do with Shares?

(This was published in the Deccan Chronicle. Some editions on 29/4/18 and some on 30/4/18. )

Management quality is a function of ethics and governance. Someone asked me how important are these two attributes? If we go by ‘equity research’ reports, it has absolutely no importance. No report comments on the quality of the management, preferring to be diplomatic or practical, since most sell side firms need some business in banking or equities to come their way. Equity research as a function has never made money on its own. It is like the appendix in the human body.

Of course, it comes in to play when we want to acquire a company or take a significant stake in a company. Then we will all perhaps spend a lot of time figuring out who the owner is and what are his strengths and weaknesses. Sometimes, I see large institutional investors taking significant stakes in companies where the management quality is known to be suspect. I can only infer that it is perhaps a reflection on the quality of the investor also. Institutional investors are managed by people who get salaries and bonuses and they are not investing their own money. Most of us seem to think that it will not impact the investment.

We think that by the time the bad qualities come to the fore, we would have cashed out our gains. Or we think that with so many other investors, we are not alone. We always seek for this comfort that we are not alone.

Governance and ethics of the highest standards are something that exist only in seminars and books. When it comes to money, there are shades of grey everywhere. The one thing working in favour of the investors is that most often, the businessman is also interested in maintaining  a perennially north bound share price and hence our interests are aligned. In the old days, when salaries of directors were restricted to a few thousands, there we no ESOPs or ‘preferential allotments’ or ‘warrants’, the story was different. Also, the interest rates used to be high and our markets were small. Stocks never got such fancy valuations as what exist today. So, the promoter found it useful to take money away and leave just enough for the shareholders. Today, with the fancy valuations the stock markets give, the promoter finds that keeping a rupee inside the company adds substantially to his wealth. And the promoter can take his multi-crore salaries, dilute when the price is right, issue warrants to himself when the timing is good etc. There are so many indulgences that have become legal now. Thus, the promoter has less reasons to skim off.  A higher EPS translates in to significant wealth, given the benevolent secondary markets.

Of course, no one is immune to a structured fraud. That can happen to catch the best of investors unaware. Satyam Computers was one. Of course, the investors got lucky there since there was a motivated attempt to rescue the company in order to bail out a select few. However, I do not see the same things happening in a Gitanjali Gems.

However, one way to keep ourselves safe is to avoid companies with high debt, unusual amounts of cash in hand combined with low dividend payouts, continuous raising of capital, constant mergers and acquisitions, having hundreds of subsidiaries, having too many ‘associate companies’ (associate companies are where there is no disclosure, since there are external persons who are co-owners) etc. Avoid in general companies where ‘revenues’ are based on some funny accounting or on ‘certification’ by management rather than plainly visible ones. Have a look at the schedule of Fixed Assets (nowadays referred to as ‘non-current assets) and look at what is happening there. Is there too much of fictitious assets like Goodwill? Is too much invested in real estate? Too much goodwill? All of these are just warning signs and call for deeper probe rather than just ignoring or accepting. Many edifices are built of papier-mâché. Kicking the tyres by going through the schedules of accounts for a few years will be a good habit to keep.

Other thing that has helped me is to have a binary classification for valuation- companies that have brands or consumer products to be valued on basis of revenue. Companies that deal in commodities etc to be valued by Balance Sheet. In essence, I find out what the company can make and how much of assets are needed. Then compare it with the “ENTERPRISE VALUE” (enterprise value is the sum of market capitalization PLUS debt) .  That helps me to buy when the industry is doing badly and sell when it is doing well.  Of course, the approach is simplistic, but a great start point.

Management integrity always pays off handsomely over time. If you are taking chances, taking it knowingly. And be prepared for surprises. There is no early warning signal as to when a fraud will be exposed. .

p.s. A good analyst can always smell the cockroaches. No investor has patience to listen to someone ranting about it





Independent Directors?? Fortis/ICICI

(This appeared in the Deccan Chronicle of 15-4-18 and 16-4-18.  What is happening at Fortis or ICICI has thrown the spotlight on the “independent” directors. My view is that it is easier to believe in Santa Claus than in the ‘independence’ of independent directors)

In an earlier article, I had talked about the importance of Management Quality. When I buy a share, I become a co-owner of the business. The share price will over time, behave as the business behaves which in turn is dependent on the management. Thus, my fortunes are hitched to what the promoter-manager does. Often, the promoters/managers do things that benefit themselves exclusively and the other shareholders suffer. The suffering can be of two kinds-  A reduced return which may still be good (and thus overlooked by all) or a disaster in the making where the promoter-manager takes the cake and leaves the others with crumbs.

The person/s in charge of the affairs have a fiduciary responsibility to every shareholder. Every act should have an equal impact on ALL the shareholders. When it hurts one at the cost of the other, we can say that governance has failed ant TRUST betrayed. It is truly a criminal breach of trust when the shareholder is diddled out of money by the person/s at the helm.

In today’s corporate world, CEOs are extremely well paid, with incentives linked to performance. CEO pay has to be decided upon by “independent” director. However, thus far, the ‘independent’ directors have excelled by their silence rather than speech. Not just any one company, but every company you come across.

How much can be blame the “independent” directors? In general, the independent director is chosen by the promoter. There is no way someone will pick up a person who will every speak up against the promoter. And today, the ‘independent’ directors are paid well, given a lot of free perquisites etc which are significant incentives. And by speaking up, there is a very high probability that no other company will like to have you on Board. This is common sense. So most often, the ‘independents’ keep quiet or prefer not to speak up. Unless of course they see that the risk of not speaking could make them an accomplice.

Let us understand one thing. An ‘independent’ can only know what the CEO or the promoter chooses to tell him. Other than statutory accounts, he is not privy to much. Some decisions which require a board resolution will be known. Day to day spending and/or revenues or decision making is hidden from them. So, an ‘independent’ director need not know most of what goes on. It is time we gave up the ghost that ‘independent’ directors are guarding the investors. Nothing can be farthest from the reality on the ground.

However, there are situations when these honourable gentlemen have a role to play. Let us take the case of Fortis Healthcare Ltd. Here is a company, with the promoter having lost all his stake by pledging and no clear owner visible. Add to that some dents to reputation that this industry will give to every player. In such a situation, they are the guardians. They should guide and advice the shareholders about various options available. Instead, they just acceded to the first offer for acquisition that came about. They should have found out what are other options and advised what is best for the shareholders. Their role should not extend to decision making. The decision making should be by the shareholders. The independent directors cannot do what they have done in this case. In case of M&A or other offers, they should firstly find out what other offers are possible. They should have engaged an investment banker to get counter offers. Once that was done, they should have evaluated the offer, negotiated the best terms and then put it to the shareholders for approval, with their recommendations and reasons.

What is disturbing is the goings on in the so called ‘professionally managed’ banks that are neither PSUs nor privately owned. Here, the professional management and the board have a duty to be beyond reproach. Banking is a business of Trust. If there is any deal involving a ‘related’ person, it should NOT be done at all, rather than depend on the lame excuse that there was ‘full disclosure’ and there was ‘no conflict of interest’. The independent directors have clearly let down the shareholders by keeping quiet about it. As is said, “Caesar’s wife must be above suspicion”.

Regulations or rules cannot bring about corporate governance. If there are harsh punishments on independent directors, surely no one would want to be in that position. Maybe it is best to do away with the concept of ‘independent’ directors. That way, there will be no illusion of governance. Even with independent directors, capital allocation decisions are always the prerogative of the promoter director and the independent director can only nod. Often, capital allocation decisions are a fait accompli by the time it reaches the Board rooms. So let us be on our guard. It pays to be skeptical. You cannot be disappointed.

Some additional thoughts;

Any independent director, at best, can help preserve a modicum of governance. He cannot be expected to know the business and is dependent on what the CEO/promoter tells him. However, in cases like Fortis, they should have played a better role than they did.




How do I lose less money this year in the markets?

(This appears in today’s Deccan Chronicle

Essentially a review of past misdeeds and a resolve to not make the same mistakes this year.  The turn of a new calendar is an opportunity to revisit some good and not so good habits in investing)


Bad loans, frauds in listed companies, weak markets, interest rate volatility, bankruptcy proceedings, corporate deals and a full plateful on the political debate arena. All seem to strike at the same time. So many distractions. As the financial year closes and new tax rules are about to set in, it is time to tick the boxes again. I do not know how your year has been (not that a financial year matters in the investment journey), but what chatter I can hear on the social media, it looks like a lot of inventory that is under water, is waiting in many investor accounts.

This is as good a time as any to reflect on the actions we did. We had at some point agreed that we will be ‘disciplined’ investors. Discipline was with reference to our yardsticks for buying, our objectives for buying and our processes for stock selection. If we re-examine our ‘mistakes’ we will probably see that we let our optimism get the better of us and bypassed our set processes or violated our discipline. Too much noise and stories of riches being made had an impact on our thought processes.

What this will do is to scare us off the market. We will be frozen. While the index may have fallen ten percent, there will be many stocks which have fallen twenty to fifty percent. Not all of them may be good buys, but there could be some opportunities. So, the thing to do is not to keep away from the markets, but to take a piece of paper and write down our rules for investing/ trading. I make a distinction between the two. Investments consist of High Quality stocks that will not be sold, unless the entire story changes and not just one quarter mishap. Trading will be stocks we pick up, where the quality of earnings is not the best and would probably offer some cyclical/seasonal plays. Here, the price of the trades is important. Taking money off the table is important. Stop-losses are extremely important. You will see that many mistakes are still in the portfolio because we did not have the heart to be strict about our stop-loss rules.

I also see that there is a lot of corporate action, insolvency proceedings etc which can throw some trade opportunities. 2019 being an election year, and one with no proper budget, there is greater stability in government policies. Tax rules have changed, which makes the investor almost indifferent to long term or short term from a taxation perspective.

Thus, the task ahead of us is very simple.  Let us divide it in to two parts:

INVESTMENT opportunities in High Quality stocks can be done, if the price is right. In a market correction, there will be some extremes, which offer a great opportunity for buying. Sticking to High Quality will protect you from getting washed out. It is important that the core portfolio be built with High Quality stocks.

TRADING is for those with a penchant for trading. Those with a compulsion to do something. At an aggregate level, this portfolio is almost certain to give a lower return than the INVESTMENT portfolio over an extended period. Here, the way to preserve capital / reduce losses is to stick to ‘stop-loss’ discipline. Treat each trade as a unique event. Focus has to be on prices. Do not fall in to a trap of keeping the stock for long and increasing your exposure to it by ‘averaging’ on dips etc. Do not forget why you do this.

As a ‘trader’ you often do not do any study of the company. Many could be on impulse or on the basis of ‘following’ someone. You do not have any reason as to why it should succeed. That is the reason a stop-loss rule helps.  Just as you have a stop-loss rule, it is important to have a ‘book-profits’ rule. Do not violate that. The third element you may like to include is to have a ‘time-limit’ for a single trade. These three elements will keep you going for a longer time and ensure that you do not run away from markets for good.

Stock prices are dependent on a lot of things. Value is an important thing and when there is an over-valuation, we are in reality just ‘trading’ the trend. Ensure that you are not ‘anchored’ to past ‘high-lows’ of the trade you make. That is a sure way to end on the losing side. It is best to remain focused on the ‘now’ in your trading portfolio.




Big Name Stock or Small Company? A tip please…

(This appears in yesterday/today editions of Deccan Chronicle.

Most of us who want to buy stocks for the first time want that unknown small company which will make our ten thousand in to a crore… What are the odds? Read on…

I come across many requests for ‘tips’ or ‘recommendations’ for investing in shares. There are two categories of people who just ask. One is the type who have not invested in direct equities. The other ones are the seasoned ones, who are in search of new ideas. Let us leave aside the second category for now.

The first timers are interesting. Many of them have heard stories, read the news and are generally up to date with most headline financial news. Some of them keep trying their luck at applying for IPOs and when they do manage to hit the button, sell it on listing. If they have made a gain, they are happy. If the stock shoots up after they sold, then the story is never told.

Many of them walk up to me and ask me to give them a couple of names for investing for the ‘long term’. Naturally, it has to be such that the price should only go up. And since they think I am an ‘expert’, the stock should do far better than the market. They are conditioned to think that only penny stocks or low-priced stocks can be the recommendations.

I tell them that if they are making a beginning, they should start off with well known names like HDFC, HDFC Bank, Kotak, Cummins, Bajaj Auto, Hero, Nestle, Levers etc. Their response is that “oh, that is too well known, you should be able to tell me of a small stock that will grow”.

If you are a first timer, you should stick to well-known names. Pick a product that is familiar to you. Your daily use tells you which companies are popular and touch your life regularly. These may be well known, but they are also good and safe havens for your wealth. Most of them deliver excellent returns and you are unlikely to do worse than the market, over time. Of course, if you could pick a basket of five to ten names you like, I would urge that you do a SIP in those stocks for ten years. You can keep increasing the allocation to SIP as your income grows. This kind of a portfolio will create a solid bundle of wealth for you.

If I give you an unknown or lesser known name, it is only a ‘potential’ that is being given to you. In today’s world, there are more number of analysts per stock than there are investors. Everyone with a computer and internet seems to be talking shares, earnings, multi-baggers. The flows in to equity have never been so strong and it can only go up from here. Discovering new ideas is an extremely tough ask and the risks are very high. The best money can be made only if you spot a company that will go on to become one of the top three or four in any industry.  Here, there is a lot of luck also involved. You would have been lucky to pick a Symphony instead of a Maharaja or a Hotline. There is always an element of luck in picking. And the one who you think has made 100 X from some stock, must have put his moneys in to different stocks. His winners get talked about. No one talks about the ones that did not make the grade.

You have to first secure your wealth with solid assets where preservation of capital is needed. Smaller names can be picked up with money that you can afford to lose without batting an eyelid. And to make big returns, it is not enough if you put some Rs.10,000 rupees in to an idea. You have to commit significant amounts to make real wealth. Here, do not forget your compound arithmetic.  Let us say, that the stock market gives us an ‘average’ return of 15%. Suddenly we read that HDFC gave a compound return of 29% over 27 years.  Do you realise the significance of this? Let me give you a small table with 30 year returns…

Let the ‘power’ of compounding sink in. Cut this out and stick it on a wall. If you put aside a sum of a lakh of rupees and just forget it for thirty years, this is what it would be, at the end of the thirty year period, at different rates of return:


Annual Maturity 
Return  (Rs Lakh)
6% 5.42
10% 15.86
15% 57.58
20% 197.81
25% 646.23
30% 2015.38

When the return increases from 10 to 15 percent, the final value is nearly four times. Thus if a quality company grows its profits at around 15 to 20 percent per annum, it is reasonable to expect that the share prices will also do likewise. Thus, when you have reasonably good comfort in well-known names, what would you choose?

When there is a simple solution, why do we complicate things?




Benford’s Law… Catching accounting frauds

(Taking the liberty of copy paste. Hope Safal Niveshak does not mind)


Safal Niveshak Post

Simple Ideas to Help You Become A Smarter Investor

Latticework of Mental Models: Benford’s Law
Mar 12, 2018 09:00 am | Anshul Khare

On 25 November 2003, Kevin Lawrence was sentenced to 20 years in prison for pulling off possibly the biggest financial fraud in Washington State’s history. Here’s the backstory.

Kevin Lawrence graduated from high school in 1984. After a brief stint with a brokerage firm Lawrence bought a bowling alley and converted it into a fitness gym. He equipped the gym with modern exercise equipment, computers and hired chiropractors, masseuses and a nutritionist for the facility. But that was just the beginning of his entrepreneurship dreams. Soon he started working on an ambitious business plan to create a chain of high tech health clubs. He pitched the idea to a lot of investors.

Lawrence claimed that his startup would be an industry innovator that integrated fitness and health care into one business model, i.e., consumers could do fitness workouts and obtain health care within the same facility. His proposition also included offerings for design, manufacturing, and marketing of fitness equipments. Plus, he planned to build software to analyze the club member’s physical performance.

Lawrence must have been a good storyteller for he was able to convince more than two thousand investors and raise close to $100 million.

Flush with investor money, Lawrence floated two companies – Znetix Inc and Health Maintenance Centers Inc. Next, he started promoting Znetix through several marketing schemes such as sponsorship of athletes, teams, and events. Znetix splurged money on buying sports teams and lavish parties. These activities created an illusion in the investors’ minds that Znetix had backing from athletic celebrities and there was a viable fitness and health care business model.

In reality, there was no evidence that Znetix/HMC could make the business operation pay for itself. The company never filed its taxes and there were no financial controls in place. (Source: Kevin Lawrence Investigation)

Was it a case of an hyper-ambitious man being delusional and over-optimistic about a bad business? If Lawrence spent money only on promoting his business, it wouldn’t have raised suspicion. But Kevin and his cohorts were spending more money on personal items than on business.
Lawrence bought several properties including a home in Hawaii. He owned twenty personal watercrafts (including a 22-foot Bombardier speedboat), forty-seven luxury cars (five Hummers, four Ferraris, two DeThomaso Panteras, three Dodge Vipers, two Cadillac Escalades, a Lamborghini Diablo), Rolex watches, expensive diamond jewelry for his girlfriend(s) and a $200,000 Samurai sword.

I read about Kevin’s story in Leonard Mlodinow’s book The Drunkard’s Walk. Mlodinow writes –

Lawrence and his pals tried to cover their tracks by moving investors’ money through a complex web of bank accounts and shell companies to give the appearance of a bustling and growing business. Unfortunately for them, a suspicious forensic accountant named Darrell Dorrell compiled a list of over 70,000 numbers representing their various checks and wire transfers and compared the distribution of digits with Benford’s law. That, of course, was only the beginning of the investigation, but for there the saga unfolded predictably, ending the day before Thanksgiving 2003, when, flanked by his attorneys and clad in light blue prison garb, Kevin Lawrence was sentenced to twenty years without possibility of parole.

Znetix investigation went on for three years during which the Department of Financial Institutions spent an estimated 12,000 hours. The investigation team traced thousands of bank transactions. They pored over nearly 570 bank accounts and about 600,000 cheques, deposit items and wire transfers. That sounds like like a task more tedious than a plane crash investigation. However, most of those 12,000 hours were about finding confirming evidence that there was a fraud.

The real credit goes to Darrell Dorell for recognizing the anomaly. In fact, not even Darrell, it was Benford’s law which gave away Lawrence’s secret. So what is Benford’s Law?

In my 13-year career working with half a dozen different software companies, I have gone through numerous personality assessments and psychometric tests. I understand that my employers were being genuinely concerned about my career and wanted me to take those quizzes seriously. But, honestly, answering those 100 multiple choice questions, especially when I was right in the middle of an intense struggle to meet my project deadline, was more of a nuisance than a help.

So what did I do? I finished the test in 5 minutes by ticking option A for every question.

“Oh! C’mon. That’s too obvious. Anyone looking at your answers would’ve figured out that you were not answering honestly.” You might want to argue.

I know. That’s why I ticked the answers randomly. So a pattern like A-A-B-A-C-B-C-B-B-A-C won’t raise any suspicion, right? Unless my truly random pattern turned out to be the exact sequence preferred by a sociopath killer. Thankfully, it wasn’t because I was never sent to jail based on those psychometric tests.

The point I am coming to is this: we humans have no intuitive understanding of randomness. Humans are easily fooled by randomness. Taleb in his book Fooled by Randomness argued that our world is more random than we think.

Benford’s law says, when it comes to large numerical datasets, our world is less random than we think.

Benford’s law is an observation about the frequency distribution of leading digits in many real-life sets of numerical data. The law states that in many naturally occurring collections of numbers, the leading significant digit is likely to be small. For example, in sets that obey the law, the number 1 appears as the most significant digit about 30% of the time, while 9 appears as the most significant digit less than 5% of the time. By contrast, if the digits were distributed uniformly, they would each occur about 11.1% of the time. (Source: Wikipedia)

Image Source: Wikipedia

So what do we mean by real-life sets of numerical data?

If I were to collect the age-data of all the people in a town or a country, will the age distribution depict Benfords’ law?

No. It won’t because the range of data in such case would be very small, i.e., from 0-122 (the oldest known person was 122 years old at the time of her death). Wikipedia states:

Benford’s law tends to apply most accurately to data that are distributed uniformly across several orders of magnitude. As a rule of thumb, the more orders of magnitude that the data evenly covers, the more accurately Benford’s law applies.

Which means the prime candidate where Benford’s law would be observed very frequently, as you’d have guessed by now, is financial data. Someone “cooking the books” will likely use an even distribution of leading digits rather than leading with low digits. Like I tried to fudge my psychometric tests. Fortunately, Benfords’ Law doesn’t work with multiple choice personality assessment test data.

Darrell Dorrell wasn’t first to use Benford’s law for detecting a financial fraud. Benford’s law has been in use since 1972 for unearthing accounting frauds.

Mark Nigrini, the author of Forensic Analysis, has shown that it could be used in forensic accounting and auditing as an indicator of accounting and expenses fraud.

Here few more interesting instances where Benford’s law has been used:

  • Benford’s Law was invoked as evidence of fraud in the 2009 Iranian elections.
  • The macroeconomic data the Greek government reported to the European Union before entering the eurozone was shown to be probably fraudulent using Benford’s law.
  • One researcher even applied the law to thirteen years of Bill Clinton’s tax returns. He passed.

Stephanie, in her blog Statistics How To, writes about her experiment with Benford’s law. She picked up the Oct 2016 issue of TIME magazine and counted all the numbers appearing in it. Surprisingly, it adhered to Benford’s law. Of course, that’s anecdotal evidence and doesn’t prove anything. However, that gave me an idea to do the same experiment with a company’s annual report.

So I randomly picked up an annual report. I don’t deny the role of my subconscious in this random selection. I wrote a small program to extract all the numbers from this annual report and plotted the frequency distribution. This is what I got –

Compare it with the first image that shows Benford’s frequency distribution. What do you see?

Now before you jump to any conclusions, I would like to put out a disclaimer.

This was a quick and sloppy experiment. I spend less than 30 minutes. Ideally, I should have scrubbed the numerical data before running my analysis, i.e., I should have filtered out the numbers which were not really financial data like the page numbers, section numbers, etc. I didn’t do all that.

So please don’t rely on these results. It was an experiment more for fun rather than investigation. By the way, it was Reliance Communication’s FY17 annual report.

Thanks for reading.

The post Latticework of Mental Models: Benford’s Law appeared first on Safal Niveshak.

Investments- Do Managements Matter?

(This appears in yesterday/today edition/s of Deccan Chronicle)



The recent ‘discoveries’ of frauds by businessmen on our banking system seems to be yet another reminder of the fact that most investors do not seem to care about what I refer to as ‘management quality’. When buying shares, people tend to rely more on tips, research reports and broker recommendations. They do not do any homework or take any effort to dig a bit more. Ultimately, the biggest success factor for any investment over a long term will be the Quality of Management. All the other factors are a subset of this.

Just see all the research reports by the brokerage houses. None of them talk about the promoter or the management. They all give you some fancy write-ups and some numbers. And project some price based on some formula that is invented afresh for every company share price. If nothing, they will say that another company in the same space trades at X times sales and thus, this can be value like that. Nowhere will they give you a cohesive logic to support a price.

So, how does one take a call on “Management Quality”? I cannot give any precise quantitative measures, but here are some pointers. Tick as many boxes as you can. Where there are doubts or negative issues, you take your call.

Management competencies can be judged fairly well by a handful of ratios that can be used to ‘kick the tyres’ in any investment ideas. For starters, the ROCE is a good starting point. The ROCE has to be over the cost of debt if a business has to be viable. Not in just a single year, but over long periods. You will notice that ‘successful’ companies will have ROCEs that is upwards of twenty five percent. The other thing is that any management should be able to grow the business faster than the GDP plus inflation. In every business, you will have two or three leaders and dozens of ‘me-too’ companies. The leaders will give you long term wealth and the ‘me-too’ companies are speculative. They keep stuttering and making money out of them is a matter of timing and luck. Sometimes, in economies like ours, there are some ‘sectors’ that become ‘hot’. It does not mean that the managers are all great.  The retail space is a good example. We have companies making consistent profits, some turning around and many still not making money. Not all of them will live for long.

Accounting quality (how fair are the accounting disclosures) is an excellent indicator of management integrity. The auditor can only be as good as the management/s want them to be. While a high level of accounting competence is needed to critically examine this, there are some tools available online. There is something called the “M” Score that denotes the probability of manipulation of accounts.  Valueresearch (, for instance uses a modified ‘C’ score that is useful to give us a first alert on the ‘probability’ of manipulations in accounting. It is not a judgement, but a flag alerting us. Today, the temptation to manipulate accounts is extremely high and not enough efforts are being made to study this. Accounting frauds will keep stock prices going for some time, till the fraud collapses on its own and the shares become worthless. Thus, one good thing to always see is if a company is consistently profitable, does it pay full taxes, does it give enough dividends, does it reduce its borrowings? Cash flow analysis is a leading indicator. Does the company resort to frequent visits to the capital markets? Does it regularly announce ‘corporate’ acquisitions, re-structuring, has too many subsidiaries etc?

The more complex a business and its annual report, the higher the possibilities of goings-on that are buried between the lines. Do not invest in something that you cannot understand. The markets have over two thousand companies and you do not have to invest in every one.

One section in an annual report that is good to read is “transactions with related parties”. Also, check the compensation being taken out by the promoter directors/management. If that is a large part of the total wage bill, it is not a nice thing.

There is also a website named that lists out registered offences or allegations on companies and directors. It is good to spend that time to find out a bit more about the management.

PSUs by nature have a problem that structurally gives them a poor score on ‘management quality’. No reflection on the talent, but the owner’s appointment of management, their short tenures, lack of a credible business strategy, non-business motivations for a lot of actions etc result in uncertainties. Failure to meet goals has no implications on the promoter/management in this case. So, this is a risk that over rides everything else.

Of all the risks that we have in any investment, the risk of ‘management quality’ is least understood. Long term investing success hinges on this factor.








Senior Citizens- Guarding your money

(The second time arrest of the promoter of Subhiksha – A revisit at an Article in Moneylife. – )

8 Mistakes Retirees Make

While Americans are notorious for poor long-term savings, I am sure that the plight of senior citizens living exclusively on their own savings is not too good either. Retirement just happens. Retirement means the loss of your earning and perhaps trying to live on your savings and, often, a reduced lifestyle with the prospect of unplanned medical emergencies looming ahead. But, in that country, the State provides a lot of social security in sunset years.
In India, things are worse as the State takes no such responsibility—not even for those who have paid their taxes throughout their working lives. I also think that there is a lot of foolishness and naiveté on the part of the just-retired or about-to-retire folks, when it comes to matters of money. Senior citizens are either very naïve or very aggressive as investors and savers. I have seen highly educated senior citizens take risks with their life’s savings, without understanding the risk. Often, they also do not understand the financial products suitable for them.
I have come across so many cases where retirees have lost small fortunes. Fixed deposits (FDs) with unknown companies because a relative or a friend recommended it are among the most common cause of such self-afflicted pecuniary. For example, Subhiksha group company, Viswapriya, or PACL or so many ‘schemes’ where they think they will get higher returns than on bank FDs or on safe FDs with a rock-solid Sundaram Finance (once a hot-favourite with savers in south India. The company would reach its legal limits and come out with ads saying they cannot accept more deposits!). After interacting with so many of them, I think the primary reasons are:
  1. ‘Secrecy’ in Matters of Money. They do not want to tell anyone, or talk to anyone, about how much they have, where they have parked it, etc. Secrecy is an obsession with them. I know of several senior citizens who have lost big money in various schemes. They all know me well and know about me. However, they have never mentioned it to me or wanted to discuss personal investments with me. This penchant for secrecy makes them easy prey for the hustlers of financial products.
  2. Reluctance To Understand Financial Products. In many cases, innumeracy blinds them totally to everything. They do not even bother to find out anything about the company or the outfit before they write out their cheque. For example, I asked someone who had invested in Viswapriya whether he knew who its promoter or owner was. He did not. Then, I asked him whether he knew about Subhiksha. He did. I asked him who was its owner and he knew the name, the background, etc. When I told him that Viswapriya’s owner/promoter was the same, he was flabbergasted. I told him to pull out the form for FD that he had filled up and showed him the names of the directors. Obviously, he had not bothered to read all that. He was more concerned with the higher rate of interest that was available.
  3. Attempts To Avoid TDS. This leads many people to put in amounts below the TDS (tax deducted at source) threshold (around Rs50,000) in too many companies. In this attempt, they run out of good companies and are easy meat for brokers and agents who peddle FDs of companies like JP Associates, Helios & Matheson, etc. Many I know have 15 to 20 companies’ FDs! The vicarious pleasure of cheating on the taxman has caused losses to so many. And, now, they worry more because someone, somewhere got an I-T (income-tax) notice about interest receipts. They do not realise that in this information age technology digs out information from the deepest trenches. They are still cocooned in their mindset of  having a second bank account hidden away from the taxman.
  4. Operate in Single Names. Another common mistake I see is that many senior citizens still operate their investments in single names. A joint account-holder is an absolute must, irrespective of age, more so if you are closer to God than the rest. And they do not seem to have even a nomination in place.
  5. Fear of Equities. A common feature I note amongst a lot of senior citizens is fear of equities. They do not want to consider even equity mutual funds. Even when they know that they are in good health, have just crossed the age of 60 and have many years to look forward to, they are blinkered. Only fixed-income investments appeal to them—fixed deposits, bank deposits, chit funds or ponzis recommended by friends. They have not bothered to understand equity and will not go to an adviser or a friend to try and decipher this animal called equity. So, they miss out on the one investment that could help them to protect themselves against inflation. On the other hand, I also come across some innocent (?) senior citizens who blindly trust their private bank relationship manager and have ended up with a bunch of (T)ULIPs. Once they are bitten, they become sceptical about everything and go into the security of bank FDs, with the occasional rush of blood to their head which pushes them to exotica.
  6. IPO Memories. Most of them grew up in an era where the IPO (initial public offering) game was like a national lottery. They still get their urge to apply in the IPOs; but, luckily, many of them are scared by the free pricing. They still think of ‘premium’ as highway robbery. Most of them have not bothered to try and understand investment basics even after retirement when they have enough time.
  7. No Advance Planning. Retirement is not planned or given any attention until it actually happens. No one seems to have given any thought to the fact that they would cease to get a regular pay cheque and that they have a lifetime of spending ahead of them. It seems to be a binary option. Either they have enough wealth or they are dependent on their children for their future daily bread. Thus, they take each day as it comes, without concern for their spouse or their children. I know, it sounds harsh; but an unplanned retirement is very cruel on your spouse. And, in today’s world, you should not be a burden on your children who are already stressed out about the future of their children.
  8. Spouses Remain Dependent. In all cases, spouses are kept out of the decision-making regarding all matters relating to money. The typical homemaker spouse never bothers with where the money is, which bank, etc, and is totally dependent on someone to handle the money. Should the earning spouse, who has retired, depart this world, the homemaker spouse is all at sea and is easy prey for scamsters. So, all you retired folks out there, please take some time out everyday and FORCE your spouse to understand what the financial resources are and how to access them, should something happen to you. Unless you do this, please understand that, after you, your spouse is going to be at the mercy of someone for finance, even if you may have provided for her. Making and saving money alone does not complete your task. Informing and educating your spouse about it is equally important.
All the observations are based on specific instances I have come across. We do not have a senior-citizen-friendly ecosystem. So, we have to create it on our own. Start from scratch, if you have to. Use the Internet. Start reading financial magazines/financial papers, just to get a drift of things. Understand inflation which is the biggest enemy of the retired. Financial knowledge can make things easier for you and make your rupee work better. And, remember, you are alone in this. You are easy target for insurance salesmen and other fraudsters. They will find you as the soft target for meeting their goals. In the process of meeting their goals, they will empty your pockets.

Make in India- Keep the Wealth also in India


(This appears in  Moneylife. It is a subscription only website. I am taking the liberty of posting this on my website, because I think this is worthy of a debate and more people should think about this)

Keeping the (Market Wealth) in India

Our honourable prime minister Narendra Modi is passionate about ‘Make in India’. Government policies are getting fine-tuned to make this easy. Today, I want to touch on a topic that is dear to my heart. About encouraging Indians to create wealth from the massive spending and growth that is happening in India. While our gross domestic product (GDP) may be growing in real terms at 6%-7% (implying a nominal growth in double-digit terms, given that inflation is around 4%-5%), many businesses are making money hand over fist and shareholders are creating wealth at a much faster pace.
The Indian consumer is the most sought after one today. Whether it is Google or Microsoft or Unilever or Nestlé or Apple, everyone is wooing Indian consumers. Indian consumers are giving a lot of boost to the share prices of all these companies. Then you pause. All this money is spent by the Indians. Who gains? Who owns Google or Microsoft? It is clearly the Americans who own bulk of the shares. You and I cannot buy five shares in Google as easily as we can buy five shares in Bajaj Auto or Maruti. In fact, we won’t be able to buy any with our national currency!
Now think of the opposite. Who owns top Indian companies? The fact is that HDFC (Housing Development Finance Corporation), HDFC Bank and ICICI Bank are overwhelmingly owned by foreign investors. In some cases, they hold 74% shares. Uday Kotak is probably India’s finest banker and sharpest brain. Read what he has to say here: He rightly points out that companies that need capital can find it from Indians. When that is possible, why do companies like HDFC have to raise money from foreigners?
Indeed, we have a problem of plenty. Indian mutual funds are flush with money and not finding enough investment avenues. They need quality investments. Why give this up to foreigners? He notes that HDFC is today owned 80% by foreigners! And 100% of the money is made from Indians and made in India! However, the wealth from this gets created abroad. Google, today, counts on India for its next big growth opportunity. Probably, companies like Google also do a lot of their development work in India. India has the fastest growing Internet market in the world. But then, who owns the wealth that gets created from this? Indians? Think again.
My friend, Umesh Kudalkar, is an investor and an analyst par excellence. He has sharp insights on most companies and also sees things from the top. He has made a very passionate argument which calls for listing of foreign companies in India, if they wish to do business here. While India needs capital to grow, India also has capital that seeks investment opportunities. I urge you to read his arguments for “Listing in India” at  To know more about Umesh, check I fully endorse his views. Yes, there could be legal or technical issues which may need to be addressed before we can actually commence listing and trading of global securities on our bourses. If Hong Kong or Japan or European countries can invest in shares in global companies, we should also be doing that.
Coming back to fund-raising by Indian companies, the government needs to revisit the provisions that permit companies to raise equity through private placement with select investors. This provision was introduced in an era when we widely believed that domestic shareholders would not participate in offerings of new shares at prices prevailing in the secondary markets. Today, things are different. Domestic money is in plentiful supply and looking for new investment options. It would be perfect if the clause were scrapped. However, markets are fickle and investor sentiments change. In order to help both, the government can insist that all new offerings should be compulsorily through rights issues (the principle of not diluting existing shareholders). Anything unsubscribed could be given to domestic mutual funds first and then to the horde of registered foreign institutional investors (FIIs). This can be done easily without any delay, as technology is an enabler of instant decisions.
There was a time when we needed FIIs. India was short of capital and FIIs were important because they pumped in billions of dollars every year. Those days are over. Already, investments by Indian mutual funds have overtaken FII investments. Much as we need their money, they also need investment options. China allowed foreigners to buy only in a graduated manner, limiting the number of companies, imposing several restrictions and so on. Here, we have opened our capital markets too much, too soon.
Last week, Indian Railways Finance Corporation launched a bond listing on the India INX. It is an initiative by the BSE, to enable foreigners to trade round the clock. In the first phase, it proposes to commence trading in equity derivatives, currency derivatives, commodity derivatives including index and stocks. Subsequently, depository receipts and bonds would be offered, once the required infrastructure for these is in place. The technology offerings at India INX would facilitate co-location of members in its own data centre at GIFT City (Ahmedabad) as well as provide high-frequency trading. It is an attempt to compete with the likes of Singapore and Hong Kong. It is only fair that foreign securities are available for trading for Indians.
Domestic companies’ shares are creating wealth for foreigners. And foreign companies are creating wealth for their shareholders by selling to Indian consumers. And, we, Indians are getting excluded. As Umesh Kudalkar mentions in his article, every government does things to encourage domestic participation. What are we doing? We are permitting foreign banks to thrive here, without being incorporated or listed here. I am sure that if we ask them to incorporate locally and get listed here, they will comply; no one will leave the country. On the other hand, we are seeing a bank like HDFC Bank being owned predominantly by foreigners and creating wealth for them. We can insist on the foreign companies to either list and offer shares to Indian investors and/or insist on their shares being traded within India, enabling Indians to buy those shares.
Indian investors have totally been left out of the wealth created by companies like Google, Apple, Microsoft, etc, while being big contributors to their profits. Our digital payment rewards are going to Visa and MasterCard. Here, if we cannot compete with them, at least owning their shares should be enabled. India has been perennially short of capital. It is only now that wealth creation is possible as entrepreneurs get rewards from the capital markets. By opening more avenues for Indian investors, this process can be accelerated. More capital means more risk-taking can happen. Ultimately, this will all go to increase the ‘Make in India’ pie.
Our capital market regulations are among the best in the world. In many cases, we are ahead of Western regulators when it comes to disclosure regulations. However, we seem to have had a blind spot when it comes to thinking about our own interests. We have a colonial mind-set. We still want to ‘impress’ and ‘favour’ the foreigner. Indeed, at the time of writing, there is a speculative news report that Indian government may allow 100% FDI in banks. I would be happy to see the government and the regulators take steps to get us freedom from the second colonial conquest, that of our capital markets.

PSU Banks- Cheating the public- Some quick and angry thoughts= #PNBScam

Banking is a business of trust. Depositors are the prime drivers. It is their money that the banks use, to lend to others and make a spread and make money. However, if some loans are not repaid, it impacts the depositor directly, when the magnitude of bad loans is far in excess of the capital that is brought in by the bank owner. Thus, it is the depositor who takes all the risk. In a PSU Bank, there is zero accountability.  Bad loans make headlines and nothing more. However, the owner, who also owns the fiscal resources of the nation, pulls wool over our eyes when banks are ‘re-capitalised’. In effect, the govt uses our money to help repay our deposits. In other words, if our deposits have to be safe, we have to again put in capital to get the optical illusion that our deposit is intact. Frittering away our money in bad loans is theft. Unfortunately, no one is answerable. The politicians know that the best way to rob a bank is to make the government own it.

Nationalisation of Banks was the biggest fraud to happen on India’s finances. The politicians took control of public money and used it to feed friends and family, with zero risk to themselves. Excuses of “financial inclusion” , “job creation” etc are bunkum.  Financial inclusion could have happened with SBI and the Post Office network together. It did not need other banks. What is the point in having 20 bank branches in one street? All that happened was that the businessmen gamed the system by borrowing from multiple banks, without the banks being able to get a fix.

Is privatisation of PSUs the answer? I think yes. Of course, history is full of private banks that went to the grave..  Global Trust, Centurion, Bank of Karad etc, to name a few. Of course, every cooperative bank is also bust and being kept alive with public money by the politicians.

We have seen banks go bust, whether private, public or cooperative. End of the day, bulk of the cheating is deliberate and cannot be done without political connivance. If bank promoters are chosen well, why should someone want to lose money? Banks like HDFC Ltd and Kotak have demonstrated that banking can be done well.

The government should merge ALL the PSU Banks in to one entity- So have SBI and one other bank. What this will do is to free up real estate that can be sold and help to shore up capital. Anyway there are enough private banks, NBFC etc that can fill in the gaps. The second bank can also be sold off to a foreign promoter or a willing domestic promoter.  Cooperative Banks should be shut down.

Deposit Insurance should be increased to around 10 Lakh per account. Anyone keeping more than this can split it between a few banks. And if there is too much money, the person can learn to live with risk. Every citizen getting protection up to 10 lakh of own money should be more than adequate.

Private banks will collapse as risk management will fail and frauds will happen. This is a natural order of things. Let them happen. Make sure every bank pays the insurance premium for the Deposit Insurance. When NBFCs fail, no one bails them out. So should it be with banks.

The government can directly indulge with its extravagances by giving out loans to farmers, without touching the banking system. And make sure the RBI is packed with experience. Experience in banking and business. Not university professors and career politicians. Do not let anyone in to RBI if he has not worked in a bank for five to ten years.

The other thing that ought to be done is to have a centralised data base of all borrowers linked through PAN or some such number. This will help to prevent borrowers from going from bank to bank after defaults. If CIBIL can exist for retail borrowings, an equally robust system is needed for other borrowers. Every loan should be mapped in a central data base.

PSU Banking has to be killed. Otherwise we will have this endless cycle of recapitalisation. Politicians will resist. And I doubt if even Modi will be able to change this state of affairs.

Till privatisation, it would be best if PSU Banks are prohibited from lending even one rupee. Let them put the deposits they have in Government Securities. The return on G Secs is more than what they pay on savings or FD. So, they can make money without any risk. Keep our money safe. We have no faith in the banking system. Let the government get out of business. Cronyism is killing India.

Dear PM/FM- Do not fool us by saying that depositor money is “safe”. It is NOT. You are merely using tax payer money to fill the gaps created by your incompetence and connivance. It is like saying “ I will repay your loans by robbing you”



Fudget 2018…

(A perspective on the Budget 2018. Published in Deccan Chronicle on 2/2/2018)


This budget is the last full year budget by the BJP before the next general elections. It is, like all budgets, a statement of political intent. This time, the focus is to clearly do something for the farm sector and the economically weaker section of the population. There is a renewed big bag announcement to provide health cover for up to five lakh rupees per family, that would cover more than ten crore families. The second big intent is to provide better income to the farmer by providing a “minimum support price” that is related to the cost of production. Thus, the biggest segments are sought to be addressed by these two big announcements. As far as budgets go, it is a passable budget as it seeks to balance political and fiscal balance.

The mathematics of the budget seem to be driven by an intent to be fiscally prudent. The projected fiscal deficit is not a big number and should not bother us. Everything seems to balance (I have not read the fine print at the point of writing this). However, one thing that bothers me is the long term fiscal impact of providing universal health cover as well as farm produce price supports.

One thing that is clear is that the government is exhausting all sources to raise revenue. Clearly too much money is needed and there is not enough revenue generation. There is no relief to the white collar salaried. There is a tax relief for the MSME, as the lower tax rate of 25% is now extended to companies with turnover of up to Rs.250 crore, as against the earlier limit of Rs.50 crore. Big business is disappointed. In fact the education ‘cess’ on income tax has been raised from three to four percent, pushing the effective marginal rate to 34%.

The government now is a partner in the money we make from stocks. They already taxed short term gains, now their reach extends to long term gains also. Governments are supposed to hold on to their promises. STT was introduced as an alternate to all types of capital gains. Government seems to be desperate to tax us more and more. There is some tokenism to senior citizens.

Infrastructure spend is big like in earlier budgets. Big announcements of new airports (56 of them), food processing parks, more roads, ambitious targets for houses for poor, concessions for women etc also flashed. Clearly, trying to address every segment.

Budget making is a political exercise. Trying to please all constituents is not possible. Revenues are far below what is spent. Unfortunately, asset sales (disinvestment, auction of natural resources etc) are like selling family silver to put a meal on the table. No one seems to mind. One day all the silver will be gone. But then, that is the problem that will be inherited by the future generation. However, no economist or anyone seems to be bothered. Clearly this is unaccountable accounting.

Each succeeding government tries to win votes by giving away more and more things. And this also establishes a sense of ‘entitlement’ among the public that they have a right to get things free.

This budget should not worry the market, but could give a trigger for a correction that is overdue.

R Balakrishnan

1st Feb 2018